The European market is a compelling but complex opportunity. But what is needed to achieve a successful UCITS ETF range? What are the key trading, distribution and liquidity issues? Funds veteran Kevin Gustafson gives us the 101 to setting up in Europe.
Jeff Baccash:
Thank you for joining our third episode of ETFs Unwrapped: a guide for asset manager CEOs and operational leaders looking at launching ETFs in Europe. I am Jeffrey Baccash, Global Head of ETF Solutions at BNP Paribas’ Securities Services business, and I will be your guide throughout this journey. Today’s podcast is a great segue from our last podcast, which focused on ETFs domiciled in Ireland and Luxembourg.
Today we are going to discuss why Europe is a compelling ETF market and some of the key considerations and factors for success. I am really excited to be joined today by our first external guest, Kevin Gustafson, a partner at K&L Gates’ Asset Management practice. Kevin is one of the best ETF minds in the industry, and I’m always impressed by the variety and vastness of his knowledge.
Kevin, can you tell us a little bit about your background?
Kevin Gustafson:
Jeff, thank you again for inviting me to this podcast and to this episode. And it’s absolutely my pleasure to join you and be part of BNP Paribas is involved with and is working on.
As you mentioned, for the last 20 or so years, I was actually an in-house General Counsel and CCO for several companies, including, going back 20 plus years ago, an ETF startup in the US called PowerShares. That entity was purchased by Invesco. And as part of that, I also had the opportunity to start distributing and setting up ETFs in many jurisdictions, including Europe.
So, over time and over the years, and working with other companies and firms – ETF and non-ETF alike – I have had great opportunity to work with exciting, innovative companies and innovative products in the ETF space in other spaces and welcome the opportunity to come today and chat with you about it.
Jeff:
Kevin, your career path is so interesting and I really appreciate you sharing with everyone.
I know you were on a recent business trip to Europe. Can you elaborate on what is needed to achieve a successful UCITS ETF range?
ETFs in the European market: jurisdictions, trading and settlement
Kevin:
Sure. As you know, for a UCITS ETF, you do have your selection of jurisdiction. But in many ways there is this concept of – you can have a unitary platform, but be present and in essence domiciled in either Luxembourg or Dublin.
And I think that with that, we were talking again to many US banks, US asset managers and US insurance companies, looking to Europe, and they say, yes, it’s compelling. Yes, we want to get there. What do we first need to know about, not just the opportunity, but some of the distinctives, maybe some of the challenges even that we should be aware of when we think about the European market? And we really group it in the ways that we would otherwise look at it in the US or elsewhere, which is: yes, it’s an ETF, but in some ways the product is different.
In Europe, on either platform, the ETFs have the opportunity to have ETF share classes. Sometimes that’s used for hedging. Sometimes there are funds that can have both an unlisted – similar to a mutual fund in the US – share class and then simultaneously have ETF share classes.
And so for the US manager, both making decisions, but also having that as the context is something that’s maybe new to them, but also something that can bring either opportunity or a puzzle: what do we do with this? And also the manner in which you deliver that product strategy, you know, that balance between – should it be synthetic, should it be holding the actual underlying. And that may impact the trade side, and the liquidity, and the desirability of the product.
So not only is the product itself different, but we also note the trading of ETFs in Europe or ETFs that are domiciled in Europe: they trade differently. One of the things that some US managers have to also recognize is that there are multiple exchanges that are not interconnected. And there will be decisions as to which of those would be appropriate for the strategy and where they want to sell.
Some of that may have to do with, again, certain jurisdictions or certain currency denominations as well. They also need to note that when it comes to the trading, there isn’t what’s called a consolidated tape similar to the US, and so that fragmentation from exchange to exchange may also impact the product’s liquidity and its tradability.
And then lastly, something that is a piece of the trading that has to be navigated and assessed is: in the US, settlement happens generally on T+1. In Europe that is lagging and it still is at T+2. There’s announcements around that transitioning. But that also is something to consider: does the underlying settle in a different timing and a different time window than the actual ETF shares themselves?
Then, very quickly, the third element: so the product’s different, how it trades is different. The third one is the selling of it is different of course, than the US. There are no 50 states of Europe. So there is instead a commonality and a cross-border passporting that might be possible. But understanding that and building that into your strategy is very important when considering Europe.
And lastly of course is: who is your buyer? We always ask this question to our teams. So who loves you now, who’s going to love you there, and why and where, and how do they get to you?
T+1: settlement of ETF shares versus traditional funds
Jeff:
I want to pick up on something you referred to there, Kevin. I think T+1 is a really, really important thing because we’re talking a lot with our clients right now about the implications of it. BNP Paribas is very involved in the EFAMA working group that’s going on around T+1.[1]
And what we’re starting to see, actually, is a divergence a little bit between the ETFs and the traditional, as you just referred to them, unlisted share classes. Because the funds, I think, have more autonomy because they’re not settling on exchange versus what we anticipate happening which is that the ETFs will be settling – like we both know, but a lot of people are learning – like common equity.
So they’re going to be settling on exchange T+1 the same way the shares of any publicly traded company in Europe are. And I think that’s a really, really important piece of consideration for everyone: how are you going to manage the share class that’s an ETF versus the range that’s a traditional fund? And I think in order to do, so you really need to have the right partners.
So what are some of the critical roles that partners could play in helping a UCITS ETF range achieve success?
Launching successful ETFs: importance of partners
Kevin:
Yeah, that’s really, really critical, as you mentioned. And the notion about, who’s with me? You know, we’re going to do this. What do I need?
And then who does that and who helps with that. And you know, we’ve talked before about when it comes to launching any business, an ETF business, an ELTIF business, it always has an element of do I build, do I buy or do I rent as a way of access or entry into the marketplace?
You mentioned our ETF roadshow that we had done in Europe, two months ago for K&L Gates. And as part of that, I had several questions where people would say, oh, you were part of the business that launched and set up the UCITS ETFs for Invesco 20 years ago. Or you’ve seen this and you’ve done that.
What have you seen that’s different? What’s changed since then? And immediately the response to that question for me has always been: wow, 20 years ago, there wasn’t a white label, there was no all-service platform. There was not the acceptance or sophistication that supports bringing these types of products to market, that there is today.
And wow, I wish there was. It was very hard back in the day. We were either going to find the path or cut the path.
And with that, we see now that in the US, when we talk about huge ETF success in terms of over 4,000 US ETFs launched[2], and the proliferation of all of that information, you see how that is happening.
And in many instances, it’s the rise of third-party platforms or custodians and fund administrators that are able to support and bring their expertise to market. So then I look at that now for the European market, and there are many platforms that are supporting the growth within Europe, and that’s the platform access, that service model’s continuing to grow.
A lot of the things that you just mentioned about BNP Paribas, as well, are going to be critical pieces for getting to market, And not just getting to market, but being successful.
And so, going back to the concept of build, buy or rent, in many instances, a US manager or – I would say – an ex-Europe manager coming in, they’ve got to look at this and say, what’s that ecosystem that supports it and how do I manage and navigate that?
So again, to your point about the picking of partners and the identification around what that looks like is so critical. But with that too, that manager needs to look and say, well, how am I going to manage and trade in market? I may have time zone issues, I may have personnel issues. What can I delegate, what can I keep and what can I partner with my platform?
That recognition again, we mentioned that there’s multiple exchanges and the coordination around that. And working with a partner that knows the market makers and the trading desks.
So, again, some of these ETF service groups or platforms may focus on one piece. But really the ability to know: ‘I’m working with an established partner that has that recognition, that has that built in relationship across these groups, and in those regions I want to be trading in.’
That’s critical as well. And that, again, goes to the key issues around distribution and marketing as well, and how that all has to feed in and be coordinated together. So again, I can’t stress enough: the selection, the engagement. And then we’ll call it the deployment around that right partner, that right group of partners is really going to be critical, for entrance into the European market.
ETFs: transparent structure, open culture
Jeff:
I agree, Kevin, and I think one of the things I learned about the ETF industry, and it’s part of the reason we were able to have you here today, is how open and transparent people are. And I think it’s because the wrapper is transparent. The fund is transparent. And I think it creates this culture of transparency inside the industry.
And I don’t know if you agree with that, but I think when people are new to ETFs and they’re coming in, they might not anticipate how open people are to discuss, and how they could leverage everyone’s knowledge. Just like you’re sharing with us today.
Kevin:
Yes, Jeff, I actually agree with you. It feels like it’s a unique part of the financial industry, and maybe it’s because it reflects the product and the way that that that functional side of the ETFs work. You know, the hallmark is transparency, simplicity, efficiencies. So you can imagine, something like that, it attracts a Scandinavian like myself.
Jeff:
Yeah, it’s I think it’s really for newcomers. Like you said, it’s a very unique part of financial services. It’s obviously growing and expanding. And I think there’s so much opportunity within it for new entrants.
Really appreciate, Kevin, you’ve been giving us your time so one final question for you.
Is there a way that you could use the UCITS structure to help distribute your funds in non-European countries, essentially most of the world outside of the United States?
This is something we’ve talked about before. Can you explain the benefits of this and how it can work for an asset manager?
ETFs: a valuable distribution tool outside Europe
Kevin:
Sure Jeff. And that’s exactly right. Part of that is, again, a little bit of my experience, not just working for companies like Invesco and other ETF sponsors, but also working for Prudential’s Asia Asset Management division.
For me, it really has been a terrific experience and a great interest of mine, looking at products that have a global reach and a global intent and really, how do we accomplish that together?
Generally, I would say there are three elements around that when it comes to, the specifics for, why the use of the ETF and why we should or could we think about it that way.
One has to do, again with the flexibility around share classes that we mentioned a moment ago and the ability to do share classes and different currency denominations.
Second is that, in many instances overseas, there is a greater familiarity, with the regulatory regimes with regards to a UCITS structure. So again, for regulatory purposes and then market acceptance, the UCITS is the typical master feeder or the direct product that’s made available in those jurisdictions. And then lastly, in some instances, taxation might be more favorable than if it were, let’s say, a US ETF.
And so, in those instances we see mentioned a moment ago, Latin America. So, in the Chilean pension system, as an accessible product; also in Peru and its pension system; in Mexico for cross listing. And certainly, there’s a lot of what’s called offshore interest, for either individuals that are based in the United States or are adjacent to the United States -where family offices and other institutions are – love that strategy but need or prefer it to again be in a UCITS.
Very quickly again, pointing to several examples that are available in Asia, where we’re watching US managers and non-US managers leveraging the UCITS structure for an ETF and allowing it to create, again, either master feeders in different jurisdictions of ETFs, or a wraparound ETF.
Also we’ve seen creation of share classes for participation on particular platforms. That could be a wealth platform, could be some of what we’d call the digital models and platforms that we’re seeing in Southeast Asia that are very popular as well, utilizing those share classes specific to those.
So, again, the flexibility and the functionality of that UCITS ETF, outside of Europe and outside of the US: again, we see that as a great opportunity for many managers.
BNP Paribas: leading ETF servicer in Brazil
Jeff:
Thanks, Kevin. Those are some excellent points you mentioned there. I think what you said is a PhD in global fund distribution.
I wanted to pick up on one point you mentioned, which was around the Latin American investors. BNP Paribas provides custody for some large investors in the region. One item that we have seen growth in, which confirms what you are saying here Kev, is that they are purchasing funds from global domiciles, with the majority of them coming from the EU under the UCITS structure.
These are traditional funds as well as ETFs. One market where we have seen some growth for local ETFs is in Brazil. This is a position of strength for our funds servicing and custody business, as we are a market leader with global issuers of ETFs as well as local Brazilian firms launching new ETFs. Some of which are quite innovative.
The ETF market in Brazil is still relatively small, at around 10 billion USD[3], but has grown significantly in the past few years, and some regulatory changes that occurred in 2017 and 2018. That enabled a larger variety of ETFs to emerge. We actually supported the first fixed income ETF in Brazil in 2018, and are now a market leader with both global issuers of ETFs as well as local Brazilian firms launching new ETFs in Brazil.
So I really appreciate, Kevin, you taking the time to come here today. Thank you so much. I’ve learned some new things. I think our audience will have as well, and appreciate your time today.
So thank you Kevin.
Kevin:
Thank you again Jeff. Really appreciated the time as well.
[1] EFAMA: High level roadmap to T+1 securities settlement in the EU
[2] U.S. ETF Count Reaches 4,000
[3] BNP Paribas internal data